Two “Data” items today:
Topic #1: Two points about what Fed Funds Futures are saying about US monetary policy in 2022:
First: the odds of a 50 basis point increase at the March meeting stands at 9 percent, up from 5 pct a week ago and 4 percent a month ago.
On the plus side, less than 10 percent odds is good news. Chair Powell was very clear at last Wednesday’s press conference: the Fed is intent on raising rates this year to reduce inflationary pressures. So far, Fed Funds Futures have taken that message to mean a steady diet of 25 basis point increases rather than a shock-and-awe 50 bp move to start the process.
On the downside, those odds can certainly move higher. Chair Powell did not exclude the possibility of a 50 basis point increase at one meeting in 2022 (or more than one, for that matter). News of further increases in US wage or price inflation could push the odds of a March 50 bp rate higher.
Worth noting: the Fed has only increased rates by 50 basis points or more at one meeting on 5 occasions since 1990:
- These were in May 2000 (50 bp), February 1995 (50 bp), November 1994 (75 bp), August 1994 (50 bp) and May 1994 (50 bp).
- The May 2000 move came after 5 bumps of 25 basis points from June 1999 to March 2000 and was the last rate increase of the cycle.
- The 50 and 75 basis point moves in 1994 – 1995 (May, August, November, February) came after 3 bumps of 25 basis points (February, March, and April 1994). As is in the 1999 – 2000 rate hike cycle, these larger moves marked the end of monetary policy tightening.
Second: futures currently give the highest odds (34 percent) to 5 rate hikes this year (assuming all 25 bp moves), which is a more aggressive take than last week’s modal level of 32 percent odds of 4 rate hikes.
This shows that futures are taking to heart Chair Powell’s mantra that 2022’s rate hikes will come much more quickly than the last cycle:
- 2015: 1 rate hike of 25 basis points (December)
- 2016: 1 rate hike of 25 bp (December)
- 2017: 3 rate hikes of 25 bp (March, June and December)
- 2018: 4 rate hikes of 25 bp (March, June, September, and December)
In fact, you must go back to the last 2 rate cycles to find instances of 5 or more hikes in a year:
- 2005: 8 rate hikes of 25 bp (every meeting)
- 2004: 5 rate hikes of 25 bp (June, August, September, November, December)
- 1994: 6 rate hikes of 25 – 75 basis points, as described above
How did the S&P 500 do in years with 5-8 rate hikes (1994, 2004, 2005)? In 1994, not so great: only a +1.3 percent total return. The other two years are better: 2004’s total return was +10.4 percent and 2005’s was +4.8 percent. The average return across all 3 years is +5.5 percent.
Takeaway (1): history says the Fed leaves 50 basis point moves (or greater) for the middle to end of a tightening cycle, but remember that Chair Powell has explicitly said the current environment is different from the past. Price inflation is running hotter than any point since the early 1980s, and labor shortages are causing wage inflation as well. So far, Futures are putting low odds on a March 50 bp hike but that could easily change if incoming data shows inflation is still accelerating.
Takeaway (2): the S&P 500 can certainly show a positive total annual return when the Fed is increasing rates at most meetings in a given year, but the gains are typically small (average of 5.5 percent). Perhaps more reassuring is that those years (1994, 2004, 2005) all had a positive return, even if 1994 was only saved by a late year rally.
Topic #2: S&P 500 earnings per share run rate. A third of S&P 500 companies have reported calendar Q4 earnings so far. Most (77 percent) have beaten estimates. Here’s how that has affected Wall Street’s aggregate S&P earnings per share estimates:
- At the end of last year, the Street was looking for the S&P to report Q4 2021 earnings of $51.25/share.
- As of Friday, that EPS estimate was up to $52.06/share (1.6 percent higher than December 2021).
- Conversely, Wall Street analysts have been cutting their Q1 2022 earnings over the last month, from $52.36/share in December to $51.82/share now (-1.0 pct).
- To keep their whole-year 2022 earnings estimates intact, Wall Street analysts have been bumping their Q2 – Q4 numbers. Their 2022 estimates have gone from $223.48/share to $223.94/share in the last month (+0.2 percent).
Takeaway: while Fed rate policy has been getting all the blame for January’s equity market volatility, there is a fundamental component at work as well. Yes, Q4 is coming in ahead of expectations but Q1 2022 estimates are going in the wrong direction. We’ve seen this happen before, in September – October 2021, and it caused some market churn as well. There’s still a long way to go for Q4 earnings season, but the next batch of results will have to be better than the first tranche.
History of Fed rate cycles, 1990 – present: https://www.federalreserve.gov/monetarypolicy/openmarket.htm